2023-04-05 09:15:00 ET
Summary
- Harbor is the cheapest stock we've seen lately - trading near net cash+securities with substantial assets and earning profits with a bright future as an American Airlines regional airline partner.
- Harbor, the parent of Air Wisconsin, trades at just 3.6x its 2022 net profit of $39m, which was revealed in its annual report filed Monday.
- Harbor's stock closed at $2.18, a 42% discount to its book value per common share of $3.75.
- Harbor's five-year contract to fly regional flights for American starting in March 2023 provides considerable potential upside beyond the current drastic undervaluation.
Harbor Diversified Inc. (HRBR) is the cheapest stock we've found of late, offering a sizeable discount to fair value on a range of financial metrics. The parent of regional airline Air Wisconsin is starting its new five-year journey as a regional airline partner of American Airlines ( AAL ) after years partnering with United Airlines ( UAL ).
When Harbor Diversified published its annual report Monday it revealed a startling disconnect between Mr. Market's misperception and the reality of the value of Harbor for investors. The regional airline owns a fleet of 64 airplanes primarily servicing smaller cities in the American Midwest heartland to Chicago O'Hare Airport, connecting them onward to destinations across the country and world.
Harbor Diversified, based on its Tuesday closing price of $2.18, trades at just 3.6x its 2022 earnings of $39m. The company's fully-diluted market cap of $134m is almost entirely covered by the $126m of net cash + securities on its balance sheet. On top of that cash pile, investors buying Harbor's shares receive substantial assets including a fleet of 64 planes carried at $94m on its balance sheet. Those assets should continue to deliver substantial earnings in the years to come from flying for American under the new five-year contract.
The American Contract Has Growth Option
The American contract was signed in August 2022 and Harbor's Air Wisconsin began flying under the agreement in March 2023, according to the annual report. While the exact economic terms of the contract haven't been published, you can read a redacted version and it contains some juicy nuggets that provide potential upside. Air Wisconsin will provide up to 60 of its 64 aircraft initially to American to cover regional routes. Similar to most regional airline deals, Air Wisconsin is protected against rising fuel costs and American provides the marketing and routing. Air Wisconsin is responsible for providing aircraft and crews.
American Responsibilities: | Air Wisconsin Responsibilities: |
Sales + Marketing via Ticketing | Aircraft Ownership |
Flight Routes + Scheduling | Aircraft Maintenance + Repairs |
Fuel Expense | Pilot and Crew Salaries + Wages |
The agreement also provides potential for further upside, stating that "the parties may discuss the possibility of adding CRJ-700 regional jets to Air Wisconsin’s fleet for the purpose of providing regional airline services under the Agreement." CRJ-700s are an upgraded version of the CRJ-200s 50-seaters that Air Wisconsin currently flies with more space that can be used to add additional seats or install a business-class seating section. The potential to add such planes is a big potential driver of future earnings upside for Harbor shareholders.
Why Does This Bargain Exist?
Why is Mr. Market offering us this bargain? Harbor Diversified has flown under the radar of investors because it trades over-the-counter rather than on Nasdaq or the NYSE. It wasn't publishing its financials publicly until 2020 when a Delaware Court judge required it to re-start filing after an investor successfully argued it had over 300 shareholders ( the SEC threshold for reporting ). Harbor's management stays focused on operations rather than investor relations. They don't file press releases touting good news, hold quarterly conference calls with Wall Street analysts, or attend investor conferences.
The Appleton, WI-based airline has a good reason to stay low profile. They are aggressively buying back shares from public investors. Starting in March 2021, Harbor began allocating $1m per month to buyback shares. The result: it has repurchased over 14% of its shares since then. In the annual report , Harbor revealed it is ramped up purchases late last year (including at prices above where it trade today) and has more than $5m of firepower allocated for future buybacks.
Pilot Shortage, Economic Slowdown Risks
While these dynamics have led to Harbor's shares being undervalued and it steadily buys back shares, the future isn't without some challenges for Harbor's Air Wisconsin. The airline is seeking $47.9m from its previous partner United Airlines ( UAL ) that the national carrier hasn't paid due to a dispute over the terms of its prior contract. An arbitration hearing is scheduled for July 2023 and Harbor expects an award in Aug 2023 (unless the dispute is settled by then). Harbor recognizes the full disputed amount as accounts + notes receivable on its balance sheet, but it isn't included in its $126 of net cash + securities. That means a recovery from the arbitration would further add to its cash pile, providing fuel for more buybacks.
Another major challenge is the current shortage of regional airline pilots that has forced Harbor's Air Wisconsin and other regionals to ground a portion of their fleet. In February, American Airlines ( AAL ) agreed to boost payments to Harbor this year to help Air Wisconsin attract more pilots. Still, those increased costs and inability to keep its planes in the air could make it harder for Harbor grow earnings in the future.
Air travel has traditionally been sensitive to an economic slowdown. The pain in some segments of the economy hasn't had an impact yet due to pent up the demand for flights from the pandemic pausing many travel plans. However, if the U.S. economy goes into a recession it will likely hurt the profits of Air Wisconsin and other airlines.
Risks for Microcap Stocks like Harbor
Given Harbor's small size, limited investor relations, lack of liquidity and trading on an over-the-counter exchange, investors may want to consider if this stock is right for them. Being a smaller company means it faces greater risks if there's an incident such as a plane accident or union strike. As with other microcap investments, using limit-orders to buy or sell shares is a good practice and investors should be careful to scale the investment at a size appropriate to the own risk tolerance as part of an overall diversified portfolio.
Still, Harbor's shares look like a bargain at these prices and, in my opinion, worth getting onboard before they take-off.
For further details see:
Harbor Diversified: Profitable Regional Airline Trading Near Net Cash With Substantial Upside